These 4 Measures Indicate That Wuxi ETEK MicroelectronicsLtd (SHSE:688601) Is Using Debt Safely

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Wuxi ETEK Microelectronics Co.,Ltd. (SHSE:688601) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Wuxi ETEK MicroelectronicsLtd

What Is Wuxi ETEK MicroelectronicsLtd's Net Debt?

As you can see below, Wuxi ETEK MicroelectronicsLtd had CN¥12.0m of debt at June 2024, down from CN¥29.0m a year prior. However, its balance sheet shows it holds CN¥929.1m in cash, so it actually has CN¥917.1m net cash.

How Strong Is Wuxi ETEK MicroelectronicsLtd's Balance Sheet?

According to the last reported balance sheet, Wuxi ETEK MicroelectronicsLtd had liabilities of CN¥82.8m due within 12 months, and liabilities of CN¥4.01m due beyond 12 months. On the other hand, it had cash of CN¥929.1m and CN¥189.4m worth of receivables due within a year. So it can boast CN¥1.03b more liquid assets than total liabilities.

This surplus suggests that Wuxi ETEK MicroelectronicsLtd is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Wuxi ETEK MicroelectronicsLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that Wuxi ETEK MicroelectronicsLtd grew its EBIT by 246% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Wuxi ETEK MicroelectronicsLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Wuxi ETEK MicroelectronicsLtd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Wuxi ETEK MicroelectronicsLtd recorded free cash flow worth a fulsome 86% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Wuxi ETEK MicroelectronicsLtd has net cash of CN¥917.1m, as well as more liquid assets than liabilities. The cherry on top was that in converted 86% of that EBIT to free cash flow, bringing in CN¥221m. The bottom line is that we do not find Wuxi ETEK MicroelectronicsLtd's debt levels at all concerning. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Wuxi ETEK MicroelectronicsLtd you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.